Obama Budget Harnesses Cheap Multiplier Effect

Obama’s $4 trillion budget depends on lower inflation, as the president hopes more spending on the middle class will stimulate demand and growth throughout the economy.

The new budget includes a number of initiatives that drive spending slightly higher than the prior budget, while assuming that the Consumer Price Index will rise 1.4% in 2015, down from the 1.7% increase in 2014. The budget assumes inflation will reaccelerate in 2016, where prices will rise by 1.9% before reaching the Fed’s target rate in 2017, when prices expect to rise 2.1%.

The 2014 budget includes a 3.2% deficit, up from a 2.8% deficit in 2014 but much lower than the projected 2.5% deficit in 2016. The growing deficit is by design, which President Obama believes will cause more demand in the economy by investing more in infrastructure and made-to-work projects that will cause greater economic activity.

"I want to work with Congress to replace mindless austerity with smart investments that strengthen America,” Obama said in a speech, adding that he will fight Republican resistance to the spending bill. "I'm not going to accept a budget that locks in sequestration going forward. It would be bad for our security, and bad for our growth."

Stimulative Spending

The budget, which some pundits say the Republican-led Senate and Congress will reject, includes an increase to capital gains taxes and a reform of the tax code that will affect holders of capital.

The increased revenue channels into public works programs, including a $478 billion earmark for roads, bridges, and transit systems, which a new corporate overseas earnings tax will finance.

The spending would replace the “mindless austerity” that Obama argues has kept growth muted. The term is an oblique reference to European Union legislators, who have seen youth unemployment surge to 60% and more in some peripheral states as cutbacks in public spending came in countries like Greece, which currently has the largest budget surplus in the Eurozone.

The budget also includes an extra $38 billion in defense spending and $37 billion more on domestic programs, which the president claims will cause a redistributive effect to benefit the middle class.

A Boost to the Bottom

The non-partisan Tax Policy Center disagrees. The group estimates that “middle-income households would see relatively modest changes in their tax bills” because of the budget, while those earning less than $25,000 would see their incomes rise by 1.2%. The top 1% would see their incomes fall by nearly 2% and the top 0.1% would see their incomes fall by over 2.5%. The top quartile would also see its incomes fall by over half of one percent, the group said.

Paul Ryan has dismissed the budget as an example of “envy economics,” arguing that the top income earners should be given more, and not less, tax breaks.

Professor at Columbia University. Recipient of the Nobel Memorial Prize in Economic Sciences in 2001 & the John Bates Clark Medal in 1979. Author of "Freefall: America, Free Markets", "The Sinking of the World Economy", "Globalisation and its Discontents" & "Making Globalisation Work".